Consumers Are Still Spending, But For How Long?

Jim Kingsland

Wednesday, 22 Aug 2007 | 6:20 PM ETCNBC.com

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It's a continual worry in the markets: Will the consumer continue to spend? The answer so far seems to be "yes."

But cracks are appearing as Americans wrestle with high debt, tightening credit, inflation and a worsening housing slump. That's led to speculation that consumers may become tapped out enough to push the economy into a recession. Many experts are saying it's too soon to tell.

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"The consumer is under stress," says Bob Brusca, economist at Fact and Opinion Economics. "But the consumer is like the zombie in the horror films--they keep shooting him and he won't fall. Nothing puts him down."

“Consumers have been doing what they do best--spending," agrees Ward McCarthy, economist and managing director of Stone and McCarthy Research Associates. "But you have to be concerned about what they're going to do going forward for a variety of reasons."

With mortgage deliquencies rising, banks are clamping down on money once readily available through home-equity loans and mortgage refinancings--a major source of consumer spending over the last four years. Credit cards are also tougher to get as more consumers face credit score issues because of late payments on housing-related debt. On top of that, interest rates are rising on everything from credit cards and auto loans.

Lot of People Strapped

"A lot of people are in a situation of being strapped by increasing mortgage payments, which is limiting spending," says McCarthy. "Deliquencies and foreclosures are on the rise and as a consequence lenders are tightening their credit standards making it more difficult for consumer to borrow money."

Clearly, the consumer is already pulling back. According to the government, personal spending inched up 0.1% in June--the slowest pace in nine months. For the entire second quarter, consumer spending rose 1.3%, the weakest pace since 2005.

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McCarthy says sales of big ticket items will be especially important. The Friday, the government will report on July durable goods orders, which economists expect to be up 1%. McCarthy says consumers are likely to cut back on spending for more expensive items before reducing purchases of staples like food, clothing and gasoline.

August auto sales are also expected to be down more than 5% from a year ago. According to C&W Research, which polls potential new car buyers, more than 17% of consumers contemplating a car purchase will delay the purchase because of housing-related issues. That’s more than double the number of consumers who were in the same situation last year.

This week, several big retailers posted improved quarterly earnings but were mostly cautious about the rest of the year.

"Weakening consumer spending has been weakening further," says Kimberly Greenberger, retail analyst at Citigroup. "We haven't seen mall traffic as disappointing since the last recession in 2001."

One Positive: Paychecks

Amid all the signs of weakness is a major positive: people are still getting paychecks.

"A low unemployment rate continues to keep enough cash in consumer's pockets," says Britt Beemer chairman of America's Research Group, a private consumer research and marketing firm.. "There's hardly any job cuts, and no one is seeing massive layoffs and that's a positive."

Still, incomes are being stretched further than ever. In addition to higher gasoline prices and interest rates, "65% of consumers complain about higher prices at the supermarket," says Beemer. "Everyone is feeling pressures."

The next few months could be critical. Citigroup's Greenberger expects solid back-to-school spending, but "overall spending appears to be tightening," she says. "And we could see a continuing trend in that direction, particularly as we get into the holiday season."

Beemer agrees that holiday sales are likely to be slow, with year over year growth at only about "2%." That, he says, could leave a number of smaller retailers closing their doors in the New Year.

Stone & McCarthy's Ward McCarthy isn't expecting a recession, but warns the Fed will need to lower interest rates to help consumers and the overall economy. "We need the Fed to act," he says.

"In terms of evidence of consumers falling off a cliff, it would raise downside risks for the economy," says Michael Darda, chief economist at MKM Partners. "But the jury is still out. This is not the time to write off the consumer or economic growth."